Is This Growing Retailer Worth Its Price?

Brian is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Michael Kors (NYSE: KORS) traded higher by almost 4% after the company announced its fiscal Q1 earnings report. Furthermore, Michael Kors has significantly outperformed other big name retailers who have already reported earnings. However, stock performance is not the only measure where Kors is thriving.

An important metric in retail

In retail, one of the most important metrics is comparable or same-store sales. This metric shows how a company’s existing stores compare to the same period in the previous year. A company whose same-store sales are rising is generating more revenue per store, which also produces more sales per square feet, which then also translates into more profit per store. Michael Kors is dominating the retail space in this particular metric, as seen below.

All figures in both tables are shown as year-over-year

<table> <thead> <tr><th> <p><strong>Company</strong></p> </th><th> <p><strong>Comparable Sales</strong></p> </th><th> <p><strong>Revenue Growth</strong></p> </th></tr> </thead> <tbody> <tr> <td> <p><strong>Michael Kors</strong></p> </td> <td> <p>27%</p> </td> <td> <p>54.5%</p> </td> </tr> <tr> <td> <p><strong>Ralph Lauren</strong> <span class="ticker" data-id="205226">(NYSE: <a href="">RL</a>)</span></p> </td> <td> <p>(1%)</p> </td> <td> <p>4%</p> </td> </tr> <tr> <td> <p><strong>Coach</strong> <span class="ticker" data-id="203165">(NYSE: <a href="">COH</a>)</span></p> </td> <td> <p>(1.7%)</p> </td> <td> <p>6%</p> </td> </tr> <tr> <td> <p><strong>American Eagle Outfitters*</strong> <span class="ticker" data-id="202739">(NYSE: <a href="">AEO</a>)</span></p> </td> <td> <p>(7%)</p> </td> <td> <p>(2%)</p> </td> </tr> </tbody> </table>

*Based on Q2 Outlook

These four noted companies are all different, but still comparable nonetheless. 

  • Michael Kors is a designer of handbags, wallets, etc. in the high-end retail space.
  • Ralph Lauren is a large and diversified retailer of brand apparel. The stock has soared 550% in the last 10 years, as the company has produced consistent top-line and EPS growth during this period. But now, there are concerns that this trend could end, as the industry itself weakens. Yet despite a weak industry, most analysts still support Ralph Lauren as a current and future leader of the space. 
  • Coach operates as Michael Kors’ direct competitor, and has seen its stock decline 14% since Kors’ IPO in 2011. During a three year period between 2009 and 2012, shares of Coach rallied from $12 to over $75. However, Coach's recent decline comes as the company loses traction in the luxury retail space, most notably to Kors. Some believe that Coach will continue to struggle so long as Kors thrives. Judging by the stock, this may be true. 
  • American Eagle is a retailer of brand apparel, operating in mostly malls and other shopping centers. While American Eagle is not part of the luxury retail space, its performance is dependent upon success with teenagers and young adults. The news site Retail Sails, which also spots latest trends, suggests that American Eagle has lost its appeal to its targeted audience and calls the company's product line "uninspired". Retail Sails also attributes the company's lost market share to Web traffic, as fewer consumers visit malls. Clearly, this is a gloomy outlook for American Eagle.  

Now, what’s important about the chart above is that each and every one of these retailer, with the exception of Kors, has seen a decline in year-over-year comp sales. Yet, each company has seen its revenue growth exceed its comp performance.

The connection between revenue and comp growth is an interesting one in retail, and is often overlooked. Obviously, when earnings flash across the screen and you see top line performance, you are looking at total revenue growth, but a company’s revenue growth does not tell whether or not a retailer’s popularity is increasing or decreasing.

A large company can easily make acquisitions or open new stores to increase total revenue. But ultimately, this practice cuts into a company’s margins. Investors who closely follow comp sales growth will know when a company is losing or gaining market share, and also how to judge the success of new stores. Because after all, a company with explosive comp growth that is also opening new stores will see greater revenue performance -- evident by Michael Kors -- and will also see greater profit growth as well.

<table> <thead> <tr><th> <p><strong>Company</strong></p> </th><th> <p>Net Income Growth </p> </th></tr> </thead> <tbody> <tr> <td> <p>Michael Kors</p> </td> <td> <p>82.1%</p> </td> </tr> <tr> <td> <p>Ralph Lauren</p> </td> <td> <p>(6%)</p> </td> </tr> <tr> <td> <p>Coach</p> </td> <td> <p>(12%)</p> </td> </tr> <tr> <td> <p>American Eagle*</p> </td> <td> <p>(50%)</p> </td> </tr> </tbody> </table>

*Based on Q2 outlook

Like I said, comp growth produces higher profits. The chart above shows you the connection between comps and profit, as Kors is the only company whose profit grew faster than its revenue. This was due to stronger comp performance, or more revenue per store.

Investment outlook

In my opinion, Michael Kors is head-and-shoulders above the other retailers that have reported earnings. Now, bearish investors will say that Kors is too expensive, and it is in fact a bit pricey. However, at 6.5 times sales and 35 times earnings, you are paying for growth.

In particular, Coach trades at nearly half the valuation of Kors, having a price/sales of 3 and 15 times earnings. However, Coach also has negative to near flat comp growth and is seeing its lack of comp performance impacting margins. American Eagle and Ralph Lauren are both significantly cheaper than Kors, but like I said, with Kors you are getting growth, and in an industry that lacks growth, I think it is worthy of the premium.

Final thoughts

Clearly, retail is not doing so hot, and although the companies discussed are not exactly apples to apples, you still get the picture that overall traffic has decelerated. Already, Deutsche Bank has lowered its comparable-store sales estimates for the industry. In addition, the boutique firm Cleveland Research slashed its estimates for retail giant Wal-Mart, saying they expect sales trends to turn negative.

However, despite all of the pessimism, lies Kors, a company that is clearly operating against this trend. Kors is growing at such a level, relative to its peers, that I believe its valuation is well supported. In this economy, growth is rewarded with significant premiums, as companies such as Workday trade at 40 times sales for growth that is similar to Kors. Therefore, I'd watch for Kors to trade higher, as other companies struggle for market share, and Kors continues to shine. 

The retail space is in the midst of the biggest paradigm shift since mail order took off at the turn of last century. Only those most forward-looking and capable companies will survive, and they'll handsomely reward those investors who understand the landscape. You can read about the 3 Companies Ready to Rule Retail in The Motley Fool's special report. Uncovering these top picks is free today; just click here to read more.

Brian Nichols is long KORS. The Motley Fool recommends Coach. The Motley Fool owns shares of Coach. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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